Teaching your kids about shares

Ever wished someone had explained share to you when you were young? Well, why not do just that for your own kids or grandkids?

'Daddy, are we there yet?' Who hasn't heard this cry from a car-bound kid, impatient to arrive at a far away, and more exciting, destination? It's a natural human reaction, and not entirely confined to the world of inveterate dribblers and screamers. The modern world is full of adults rushing, frequently without much more of a purpose than to do everything fast. For many of us, the journey is willfully obscured by the destination.

But sit a child down before the trip, show them a map and point out some interesting stops along the way and the journey can be that much more enjoyable. Perhaps they will learn something of the history of the area, its geography and peoples. Their fascination may even be such that they take their own kids on the same journey decades later.

What does this little homily have to do with investing? A great deal, actually, because many inexperienced investors behave in a fashion similar to a car-bound child in the middle of a long trip. New investors tend to want to make money quickly, failing to understand that the journey itself, and the time it takes, are preconditions for better-than-average investment results down the track.

Avoiding bad habits

If you have come to the sharemarket late in life and learned its lessons the hard way, you will understand the wisdom of teaching your children about investing early. That way, they will be less likely to develop bad investment habits. But don't labour under the impression that schools or universities teach your kids about shares. It's strange, anomalous even, but finance and economics degrees are extremely theoretical and filled with academic assumptions which bear little resemblance to the real world.

Sharemarket Investing 101, then, should be a home study course. But what exactly do you teach them?

As the sharemarket is an abstract concept, it's probably best to explain it in practical terms. Your teenage daughter might love shopping at Westfield's centres, or your grandson might have a penchant for Billabong board shorts. Both probably watch programs on the Ten Network, while neither of them, you hope, use a particular type of Ansell product. All these companies are examples of businesses that they probably know, and that anyone can part own.

And that is the crucial point for your child to understand. A share represents partial ownership of a business. Companies such as Westfield, Billabong, Ten Network and even Ansell provide products or services that people want. Now, if you have piqued their interest, your child might then ask why anyone would want to own shares in a company. If you don't need money for new clothes or the mobile phone bill, why not just put it in the bank?

And the answer to that, of course, is that high-quality companies tend to grow their profits over time and, as profits grow, so does the value of the underlying business. And over the long-term-five years or more-the share price should reflect this value. In a bank you only ever get back the money invested, plus interest, but in the sharemarket your money can grow spectacularly.

But there are, as they say, no free lunches (at this point you might want to observe that stealing a sandwich from a friend's backpack doesn't count). Not all companies grow their profits and many even go backwards. Picking which companies will be successful is not easy.

'The funny thing about the sharemarket,' you continue, 'is that the price someone pays for a share often has little to do with the value of the underlying company. It's not uncommon for companies that have never made a cent in profit to sell at very high prices. At other times, though, well-run businesses with good brands and long histories of growth sell at very low prices. Smart investors buy shares from this second category.

'Think of the post-Christmas sales. If you're quick, you can usually bag a bargain. A designer T-shirt that cost $60 before Christmas might sell for only $30 in the sales; you just need to know when, and where, to look. It's really no different in the sharemarket. Other investors mark down the prices of quality businesses pretty regularly because they focus on the wrong things. If you look for discounts here, amongst the companies that nobody else wants, you occasionally find a good deal. But you need to remember that it takes time for others to recognise the valure.'

But your precocious child might counter 'I can wear the T-shirt now. It seems like you are telling me I need to keep these share things for five years.' 'That's true,' you reply; 'it's all to do with the absence of free lunches mentioned earlier. If you want more money in the future, you must give up the chance of spending it now. But don't worry. There is another benefit of owning shares, apart from the possibility that they might increase in value, and it is called dividends.

'Dividends are a bit like the interest you get from a bank, they represent a portion of the company's profits, in cash, that management pays out each year to shareholders. The good thing about dividends is that if a company is successful, it will tend to increase them over time. And, in many cases, the dividend you get is better than if you had your money in the bank. There are even tax advantages attached to dividends, but we'll leave discussion of the t-word until you're older.

Think like an owner

'Finally, once you have bought shares, think like an owner-of a business that is. Because that's what you are. The business is what you should focus on. If it's performing well, don't worry what the share price is doing. If management is taking care of the business, then the share price will eventually take care of itself. Now, go and clean your room.'

See, it's not that hard, is it? Teaching your kids about shares could be one of the best investments you ever make. It was no less than Aristotle who said 'Education is the best provision for old age'. So get them started early. The 'miracle of compounding' means that the younger your children and grandchildren start investing, the earlier they will be able to finance a house, a car and all those other things that make life a little more comfortable. Do this, and know that they will never need to ask if they are 'there yet' again. They will have already arrived, and perhaps even enjoyed themselves along the way.

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